How to tap into your small pension
Investing Guide at Deep Blue Group Publications LLC
How to tap into your small pension pots
There will be a short wait – a year, to be precise – before savers are finally able to dip into all of their pensions for however much they require, whenever they please.
That dramatic relaxation of government rules, which ends the compulsion to turn a pension fund into small monthly payments during retirement, was the highlight of the Budget 11 days ago. The Government will now give pension providers time to adjust their systems and practices.
However, many of the 320,000 people preparing to retire over the next 12 months need not delay their plans. Last Thursday a number of temporary measures were introduced that will give pensions freedom to tens of thousands of people.
These new rules are particularly beneficial to those with small subsidiary pensions of less than £10,000 which were saved alongside a final salary pension. The over-60s can now cash in up to three pensions of this size, taking a quarter of each tax-free.
Several other measures, detailed below, also give savers greater choice over how to use money reserved for later years. They will enable some to clear mortgage debts or fund activities or gifts to children that were previously thought to be out of financial reach.
The Budget changes also represent a call to action for workers in their 50s. Many pension plans are designed specifically to be converted into an annuity when the saver retires.
In addition, the City watchdog will this summer initiate an inquiry into old pension plans and other investments sold before the turn of the millennium, which could offer an escape route to those trapped in high-charging policies. However, some older policies contain perks such as guaranteed payout rates that turn each £100,000 into as much as £11,000 a year.
David Smith of investment firm Bestinvest said: “Don’t make a snap decision on the back of the Budget. To get the most from your savings while paying the least amount in, you’ll need to weigh up how much you will withdraw in retirement and when – then adjust your investment strategy accordingly.”
In short, now is the time for a financial spring clean: so dig out old policy documents and follow the rough guide on this page.
The Telegraph was inundated with pension queries in the aftermath of the Budget. We have endeavoured to answer many of them, which will be published online tomorrow, with the aim of providing a reference for all readers.
To tide over savers until the pension unshackling next year, the Government has tinkered with the existing rules.
Those with less than £30,000 in total pension savings can take the entirety as cash, subject to income tax at marginal rates on three quarters of the money. Previously the limit was £18,000.
Many will still find that a small amount of final salary benefit is enough to breach the limits. Around £1,500 of annual income from one of these pensions, also known as “defined benefit” schemes, is worth £30,000 in the Government’s eyes, according to Hargreaves Lansdown.
In 2011 rules were introduced to unfetter the smallest subsidiary pensions. But they were restrictive, allowing only two pensions of no more than £2,000 to be taken as cash lump sums. Savers with slightly larger funds were asked to buy an annuity paying as little as £10 a week.
On Thursday the Government increased the limits so savers can take three pensions worth no more than £10,000 as cash, subject to tax on three quarters of the fund. The Treasury estimates that 32,000 people will benefit as a result.
Another development is rules around “flexible drawdown”, where a pensioner leaves their fund invested in the stock market or other assets and takes an income. Savers with £12,000 a year of secure pension income from other sources (such as a final salary or state pension) have entire freedom to access their money.
However, this does incur charges, typically of around £300 or more, as pension providers are loath to spend money setting up a plan only for the money to disappear shortly afterwards.
An estimated 150,000 people have already started the process of buying an annuity. Last week, savers on the verge of retirement were hit by chaos across the pensions industry, which is scrambling to adjust to the radical shake-up announced in the Budget.
PLANS FOR 2015...
If you can afford to wait to retire – or have other money to see you through – leave your pension untapped until 2015.
There are alternatives to annuities if you need the income. Most pension providers allow customers to use “capped drawdown”. Here the pension stays invested and income of around £7,000 can be taken from each £100,000 in a fund at age 65.
On Thursday this cap was raised to nearly £9,000 per £100,000. The impediment to taking this route is charges, which can be as much as £700 a year.
Some providers, such as LV=, Just Retirement and Aviva, provide “fixed-term” annuities. Billy Burrows of Annuity Line, the advisers, said: “At the moment the minimum term is three years. Insurers should offer a one-year option – this would bridge the gap until everyone had total flexibility. I think this is bound to happen soon.”
Savers with more than a year to retirement must urgently check their investment strategy. Company pension savings, in particular, are usually fed into “lifestyle” funds. An estimated £165bn is in these funds, which are designed to reduce risk as a customer closes in on retirement by selling shares and buying bonds.
However, bond prices rocketed in the wake of the financial crisis as investors sought safe havens. Money in bond funds is on a “cliff edge” – if markets swing back the pensions of savers five, 10 or 15 years from retirement could suffer.
Laith Khalaf, a pensions analyst at Hargreaves Lansdown, said: “Absolutely everyone who is invested in a default fund in their company pension scheme should dust it off and take a close look. The fund may no longer be fit for purpose now you don’t have to buy an annuity. This also applies to pension plans set up with previous employers.”
Gather together any old pensions too. The City regulator is concerned that these plans are neglected and charges are too high. This summer it will initiate an inquiry into pensions sold before the turn of the millennium.
Run old policies with anachronisms in the terms and conditions under the eyes of an expert adviser listed on Unbiased.co.uk. Look for a “chartered financial planner”.
Some antiquated policies contain valuable guarantees or “bonus” payments that kick in at age 60 or 65. Others penalise customers for switching to cheaper providers. Work out whether – and where – you can obtain a better deal.